What are the first step to find the net present value for the qn on pg 3 abt the plato pharmaceutical

Tutorial 6 - Investment Appraisal - II 1 2 Question 3 Plato Pharmaceuticals Ltd has invested $300,000 to date in developing a new type of insect repellant. The repellant is now ready for production and sale and the marketing director estimates that the product will sell 150,000 bottles per annum over the next five years. The selling price of the insect repellant will be $5 per bottle and the variable costs areestimated to be $3 per bottle. Fixed costs (excluding depreciation) are expected to be $200,000 per annum. This figure is made up of $160,000 additional fixed costs and $40,000 fixed costs relating to the existing business which will be apportioned to the new product. In order to produce the repellant, machinery and equipment costing $520,000 will hve to be purchased immediately. The estimated residual value of this machinery and equipment in five years time is $100,000. The company calculates depreciation on a straight-line basis. The company has a cost of capital of 12 per cent. Ignore taxation. Required: (a) Calculate the net present value of the product. (Ans: NPV=$41,000) (b) Undertake sensitivity analysis to show by how much the following factors would have to change before the product ceased to be worthwhile: (i) the discount rate (Ans: 26%, Tip calculate IRR using NPV based on cost of capital 12% and 18%) (ii) the initial outlay on machinery and equipment (Ans: 7.9%) (iii) the net operating cash flows (Ans:8.1%) (iv) the residual value of the machinery and equipment (Ans:72.3%) Tip: With constant annual cash flows, the sensitivity margin of input variables from (ii) to (iv) can be calculated as follows: Sensitivity margin (%) = NPV/PV of CF under consideration X 100 (c) Discuss the strengths and weaknesses of sensitivity analysis in dealing with risk and uncertainty. (Refer to Colin Drury Chapter 14) (d) State with reason, whether or not you feel the project should go ahead. 3